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H Co is considering purchasing a new machine to alleviate abottleneck in its production facilities. At present, it uses an oldmachine which can process
H Co is considering purchasing a new machine to alleviate abottleneck in its production facilities. At present, it uses an oldmachine which can process 8,000 units of Product P per week. H couldreplace it with machine AB, which is product-specific and can produce20,000 units per week. Machine AB costs $500,000. Removing the oldmachine and preparing the area for machine AB will cost $20,000. The company expects demand for P to be 12,000 units per week foranother three years. After this, in the fourth year, the new machinewould be sold for $50,000. This sale is not expected to take place untillater in the fourth year. The existing machine will have no scrapvalue. Each P sells for $7.00 and has a contribution to sales ratio of0.2. The company works for 48 weeks in the year. H Co normally expects apayback within two years and its after-tax cost of capital is 10% perannum. The company pays corporation tax at 30% and receives writing-downallowances of 25%, reducing balance on the investment and any costsincurred in removing the old machine and installing the new machine. Corporation tax is payable one year in arrears. Required: (a) Calculate the net present value for the machine. Make the following assumptions: (i) The company's financial year begins on the same day that the new machine would be purchased. (ii) The company uses discounted cash flow techniques with annual breaks only. (14 marks) (b) Recommend, with reasons, whether the machine should be purchased. Include any reservations you may have about your decision. (5 marks) (c) The investment decision in part(a) is a closely-defined manufacturing one. Explain how a marketing oran IT investment decision might differ in terms of approach andassessment.
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a The net present value for the machine is 480000 The company should purchase the machine because it ...Get Instant Access to Expert-Tailored Solutions
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